Toward the Eurozone’s Defining Moment (Finally)

After Greek elections, Brussels and Berlin can no longer shun the issue of debt relief. The era of inflated projections is over.

Before the New Year, the Hellenic parliament rejected the nominee of Prime Minister Antonis Samaras for president. Stavros Dimas was not likely to secure two-thirds of the required 300 votes. The former European Commissioner for Environmental Affairs had previously served as a Wall Street lawyer. In a country that has lost its faith in free markets, it was seen as a liability.

In accordance with the Greek constitution, a general election will follow on January 25. Once again, Brussels’s message is that any adverse outcome would undermine recovery in Greece and the Eurozone.

In reality, massive bailouts have only deferred the inevitable – the ultimate confrontation between Brussels’s economic austerity policies and Greece’s political protest.

Squeezed political middle

Between 2008 and 2015 Greek GDP per capita, adjusted to inflation, tanked 30 percent to $21,570. In absolute terms, that is comparable to a collapse of living standards from the level of Israel to those of Libya or Gabon. In the process, Greece’s ranking in the global competitiveness index has plunged from 67 to 81, below Ukraine and Algeria.

The subsequent social devastation has translated to a new normal in politics. In half a decade, an entire generation of centrist politicians has been discredited in Greece. When the Eurozone crisis took off in spring 2010, Greece was still governed by the Panhellenic Socialist Movement (PASOK) led by George Papandreou, which dominated almost 40 percent of the vote, while the conservative New Democracy (ND) had about a third.

Today, the shrunken PASOK has lost most of its support, while conservatives are struggling to stay in the government. Meanwhile, the support of former fringe parties has exploded. In the European election, the radical left coalition Syriza garnered 27 percent of the vote, against 23 percent of the conservatives, while the neo-fascist Golden Dawn won every tenth voter – more than PASOK.

Led by the young and shrewd Alexis Tsipras, Syriza has played down its radical left-wing left roots embracing a more populist stance. It has been preparing for its new role ever since 2012, when it appointed a “shadow cabinet.” In current polls, it garners about 28 percent of the vote, as against 25 percent for the conservative ND, even if this lead has narrowed somewhat.

Recently, three MPs from the Syriza threatened to stop international debt repayments if the party comes into power after January’s elections. On the other hand, Tsipras has said that, even under Syriza, Greece would not abandon the Eurozone immediately.

So what will Syriza do if it wins?

From social policies to debt relief

Today, we know that by 2012 German Chancellor Angela Merkel was close to permitting a Greek default. But the fear was that if the Greek contagion could not be contained, it could spread to Italy and Spain. As a result, Greece was given its second bailout, but only so that Italy and Spain would be ensured a two-year timeout to stabilize their economic turmoil.

Athens returned to markets after two huge bailouts of €73 billion ($88 billion) and €164 billion ($197 billion), respectively. Behind-the-façade talks have begun over a third bailout amounting to some €20 billion-€30 billion ($24 billion-$36 billion).

Vowing to challenge half a decade of austerity, Syriza seeks to expand its constituency by policies that the Troika – European Commission (EC), European Central Bank (ECB) and the International Monetary Fund (IMF) – considers highly controversial. In contrast, Syriza sees the package as first aid after seven years of Depression.

These measures include a (big) haircut for creditors; tax cuts for all but the rich; an increase in the minimum wage and pensions to €750 a month; free electricity, food stamps, shelter and health care for those who need it; a moratorium on private debt payments to banks above 20 percent of disposable incomes.

But nothing worries the Troika more than the Syriza’s pledge of an international conference on debt relief, vis-à-vis “official sector involvement” (OSI). Unsurprisingly, Tsipras has used his diplomatic skills and met the ECB chief, German’s finance minister and IMF bosses, while sending his economic advisors to the City of London to reassure funds and investors that debt profiling would only involve OSI.

In 2015, after bailouts that amount to some €250 billion, Greece’s financial needs are estimated at almost €20 billion, which features interest payments, IMF funds repayments, ECB’s maturing bonds, and arrears – none of which can be easily delayed.

Led by Samaras’s New Democracy, Greece might cover some of these needs with the hoped-for primary surplus, planned privatizations and creative financial maneuvering. Nevertheless, a funding gap of €5 billion to €10 billion would still prevail.

With Syriza in charge, the planned privatizations would be challenged, while primary surplus would become questionable as Athens would push debt reprofiling.

In both cases, the Greek election outcome will have an impact on the anticipated ECB bond purchases.

In the past few years, Brussels has managed to build insulation mechanisms to reduce (though not to mitigate) the probability of contagion.

However, these mechanisms rely on the market expectation that the ECB is about to shift to broader quantitative easing (QE), which is expected to include bond buys of the larger Southern European economies (e.g., Spain and Italy), but could exclude those of smaller peripheral countries (Greece, along with Portugal and Cyprus).

Blinks – or “Grexit”?

The post-election drama will ensue if Syriza wins and when it will start talks with the Troika. The positioning (and posturing) has already begun. Tsipras has set the tone by saying that his government would cease to enforce the bail-out demands “from its first day in office.”

Naturally, he is hoping that the Troika and Germany would blink and support Greece, despite Athens’s new policies.

If, however, the Troika believes that if it would blink, that could unravel 2010-14 austerity policies and thus provide an incentive for other fragile economies in Southern Europe to bargain with the Troika.

But what if Syriza, rather than the Troika, would blink? In this case, the party might allow some dilution of its social policies, but not its pledge of an international debt conference. It would seek debt relief reminiscent of that granted to Germany in 1952 (62 percent). That would cut substantially the general government debt, which today exceeds 190 percent of the Greek GDP.

But what if neither the Troika nor Syriza will blink? In that case, the Troika would expect escalating economic pressure to cause Syriza’s political collapse. Whereas Syriza would bet that the Troika would not dare to risk all its post-2010 gains to marginalize Greece from the international community.

In this scenario, markets would be swept by new volatility and Athens would be forced to exit the Eurozone. In turn, Brussels believes that, with its new insulation mechanisms, Europe could absorb the shock associated with the “Grexit.”

Nevertheless, the recent Swiss currency turmoil and the uneasy anticipation of the next ECB meeting suggest, not to speak of the impending Greek election, suggest that Brussels is back to the crisis mode.

Whatever the final scenario, the repercussions will be felt not just in Greece or the Eurozone, but worldwide.

3 Responses to "Toward the Eurozone’s Defining Moment (Finally)"

Aegean1972 January 21, 2015 at 4:18 am

Part 1 : Greece was hit hard with austerity and a deep-recession in the last 6 years. Nevertheless they picked up and were doing great (in last 6 months), with economic recovery, visible growth, record numbers of tourist arrivals and transformation of the state. The radical left (Syriza) saw this and realized, that this was syriza’s last chance to take over the gvmnt. If Samaras was given time to succeed (finish the recession), then syriza wouldn’t have a reason to exist. So the leftists managed to overturn Samaras and bully themselves into elections. And all of a sudden, a country that was becoming Europe’s true success story, is becoming europe’s biggest liability. Everyone around the world sees the possibility that if the communists take over, they will screw things up in no time. And right they are. Its not the “If” the communists screw things up. It’s the “how soon” they will screw things up. And if Greece fails, the very fragile euro economy will be hit very hard (and so will be other world economies : US, etc).

Aegean1972 January 21, 2015 at 4:19 am

Part 2 : Personally, I think the Syriza gvmnt (if they manage to take 151 seats in parliament) they will run the state for about 6 months (eventually screwing everything up) and then elections will have to happen again. In those elections (and if the Greeks have learned their lesson by then) the conservative gmnvt of Samaras will be in charge again, running the game and putting things in order a few months after they take over. So my best advice for Europe and the ECB, would be for them to be patient for a few months and not pull the plug on Greece, while syriza screws things up. Syriza will eventually fall like a “ripe fruit” off the tree and splat on the ground with their non-sense politics. Its actually beneficial for Greece if the syriza gvmnt fails in a few months time, because new (and responsible political parties) will rise from the ashes of syriza. So be patient Europe and let the “rebellious-teen” (syriza) fall in its own trap. The leftists wont go far without European money. Let them dig their own hole.

Aegean1972 January 21, 2015 at 4:19 am

Part 3: Greece is a cornerstone of Europe (geographically speaking) and its very important for them to be stable and grow. And stability in Greece, will come through a responsible gvmnt. So if samaras looses this election, its critical for Europe to keep the cool and help bring him back to power. For the economic sake of Europe, Greece and the rest of the world.